Raising Capital: How to Borrow from Family and Friends
Ask John Calder, chief executive of Cincinnati-based Dorsey-Alexander, a manufacturer's agent for motion-control systems. He has some definite opinions about business loans from family and friends: "They're always risky. I know one business owner who relied on his family and friends to get started, and afterward they felt as though they owned the company -- or at least, that they should have owned it."
Calder went that route only once, when he diversified into a high-tech-distribution start-up and couldn't raise capital from the banking community. "I didn't look at those loans as long-term money," he emphasizes. "I planned to use them for no more than a year, until we had established enough of a record to win bank credit."
Calder's experience proved successful for all parties concerned, unlike that of many other business owners, whose "relationship" loans from family or friends sometimes result in misunderstandings or soured relations. "Formalizing the loans really helped."
Here's how Calder structured his borrowings: "We drew up a 90-day promissory note, which we rolled over as needed during the course of about a year." A fixed interest rate was pegged to 1% over prime, "so that the IRS could not raise objections or cause problems for me, the company, or my lenders."
Another reason the deal worked so well, says Calder, is that he "stuck to his original plan and switched to bank credit as soon as it became feasible." That proved his credibility. "Everyone who lent me money has offered to be involved if we ever need more financing help," he notes. Now that he has a bank line of credit in the middle six figures, that's unlikely.
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